Is the finance industry on track for net zero?

Daniel Klier is CEO of ESG Book, and was previously HSBC's first Head of Sustainability, and Chair of the Bank of England Climate Risk Working Group. Alasdair spoke to him about how banks are confronting climate mitigation, and what needs to be done for banks and the finance industry to meet net zero targets.

Daniel's suggested further reading: 

• The IEA's Net Zero Scenario 
• Bloomberg New Energy Finance 
• Publications from the Energy Transition Commission 
• Impact Investing Institute
• ESG Book Insights

Find all our latest investigations, features and interviews at www.landclimate.org

Transcript

Copy Transcript Copied

Alasdair: 0:06

Hello, and welcome to the Economy Land and Climate Podcast. My name is Alasdairor MacEwan. And in this episode, I spoke to Daniel Klier, former Global Head of Sustainability at HSBC, and now CEO of open source data company ESG Book.

Daniel: 0:22

So I think on all three dimensions, opportunity, risk and leadership commitment, I think we're in a really good place. Where we're not in a good place is turning that into tangible action at the right time.

Alasdair: 0:36

I started by asking Daniel about his background at HSBC, and how he got into working where he was now.

Daniel: 0:43

My journey to sustainability, now running an ESG data company is quite an interesting one. So I'm a McKinsey partner by backgrounds. I'm a strategist and I moved into HSBC to run strategy. So in 2013, became head of strategy for HSBC, did everything from how to think about global politics to the future of banking. And then there was a very innocent day when my boss, the CEO of the bank, asked me, what will the world look like in 2050? And you can do a lot of deep analysis, but also you can just be very smart. And there will be three big things that will change the world and certainly change the financial service industry. One is the world will be a lot more Asian, and certainly a lot more Chinese. Second, the world will be a lot more digital. And third, the world will be a lot more sustainable, at least we all hope. And those three drivers will unleash the next trillions of investments and will create wealth for those people that participate. And a day later I had a new job on my desk, which was can you build a business around sustainability? So I've wrote my own job profile became the HSBC's first Global Head of Sustainable Finance, to build the entire business around this, but also to think about what risks will materialise if we don't do it. So I was chairing the Bank of England Climate Risk Working Group, and thought about how you integrate climate risk into the day to day operation of a large bank. With that role obviously I was speaking at conferences a lot, and I was sitting at panels and pretty much every panel you talked about 'there isn't enough data, data is inconsistent'. And I got a little bit sick of that. And so at some point, I thought, well, if I keep talking about the lack of data, there must be an answer. And so about a year ago, I moved over to run an ESG data business called ESG book. And we're reethe largest ESG data providers in the industry helping large investors with the integration of sustainability into their day to day investment decisions.

Alasdair: 2:48

I'd like to ask you a little bit more about your work at HSBC before we move on to what you're doing now. Can you describe what it's like to be working on sustainable finance in in a major bank like HSBC, and what the challenges are? And maybe to sort of talk about what some of the frustrations might be in that too?

Daniel: 3:09

Yeah let me talk about both the positive and the negative, right. I mean, there are huge opportunities and a lot of challenges. The opportunities are that it affects every part of the business, there isn't a part of the business, there isn't a geography where sustainability doesn't create business opportunities if we do it right. Retail Investors want to invest in businesses and companies that are more aligned with the energy transition. Private banking clients have really woken up to this topic, large companies care, investors care. So I think the beauty of this topic is: you can integrate this into everything a large organisation does, and you can do it with the mindset of delivering growth. I mean, in the end, for me, one of the best advices or best pieces of advice that I got from a colleague was you need to create 1000 Sparks to cause a bushfire. And he was Australian so bushfires are obviously very common for him, what he meant to say is you will only move the organisation if every part of the organisation sees the opportunity. And in the end, that's what we've done. And we've moved a long way. What are the challenges? The challenges are that sometimes you need to make trade offs. With every decision to move to a more sustainable world? You often have to decide that you don't want to do some activities that are part of the old world. And there isn't a right or wrong answer at what pace you do this. In the investment industry you always have this debate between divestment and engagement and there is no right answer. Are you are you divesting, are you essentially saying I will no longer support certain activities. Coal is the most extreme, other forms of mining, other forms of oil, and now more conventional oil. So are you divesting from companies that are engaged with this? Or is your better course of action to engage with them and hopefully nudge them along? And the right answer is probably somewhere in between, you want to move them along a transition journey, if they're willing to go down that route. And you want to divest if they don't. There isn't a science at what point you decide that one route is better than the other. And I think those are the challenges that we face in large financial institutions. The world is not green and brown, most companies sit somewhere along that spectrum, I always say so they're a shade of olive. And working out what shade of olive it is, and whether it's getting a bit greener or a bit browner by the day, that I think is the biggest challenge. The second challenge is, every big change needs investment. And you have competing priorities. In every large organisation there are regulatory pressures, there's the pressure to digitize, there's the pressure to grow. In certain geographies, there's the pressure to cut cost, and you need to find your voice in it. So one way I always thought about this with this topic, with sustainability and climate change, in particular, you need to find a way to appeal to a number of different brains. There's one brain that is a very commercial one. You need to convince people that this is a business opportunity. There's another brain that is afraid of the regulator, and you essentially appeal to, if you don't do this, something will happen because the Bank of England will do X. And there's the other brain, which is a lot more of an emotional leadership brain, right. It's appealing to what world we'll leave to our children, but also sometimes how a leader wants to be seen in the outside world. And so I think the powerful way to navigate this range of challenges is to define the right influencing techniques for different parts of an organisation.

Alasdair: 7:03

Do you think that the kind of the levers at the moment are pardon the mixed metaphor, but kind of correctly balanced in the sense that you talk about the mixture of having incentives for investors about mixing regulation and having harder regulation and people responding to that. And where do you think the most attention is needed now for the banking sector? There was a recent report saying that last year

Daniel: 7:25

We're at an interesting moment in time, because all the platforms have been created. So if you think about the three brains that we just mentioned, one is the commercial opportunity. And I think it's undeniable that trillions of there was about 800 billion or 750 billion had been raised in investment are going into the electrification of transport going obviously, in renewable infrastructure, low carbon steel, low carbon cement, I mean, there isn't a sector of the economy, that isn't investing at the moment, the banking sector for carbon intensive energy businesses. Is probably not at the pace that we need it. But certainly, if you think about where growth is happening at the moment, it is in those areas. And so every financial institution and bank, I think has understood that you need to cover these clients, this a signal that change isn't going fast enough or should because they will be the next unicorns, they will be the next IPOs, they will create value and therefore, revenue for a financial institution. The Bank of England, as the lead regulator in this country, has done I think, a tremendous job should we dismiss that? And sorry, I should probably ask putting this into every board. There isn't a board in this country in the financial services sector that hasn't, I think, realised that the regulator is serious about this. I think the platform has been created in the recognition of another question around this around disclosure, which will this topic as a relevant risk has certainly happened. And then I think from the leadership perspective, pretty much every chief executive travelled up to Glasgow last year to pledge net then lead on to maybe the work that you do now. But can you say zero. So also from that sort of public profile, personal commitment, this has all happened. So I think on all three dimensions, opportunity risk, and let's say leadership commitment, I think we're in a really good place. Where we're something about the kind of recent rulings in the US from not in a good place is turning that into tangible action at the right time. So I think it is really really nice that everybody talks about this great opportunity and the transition to 2050. I think nobody has yet managed to pin this down into the Securities and Exchange Commission on disclosure, which what needs to happen this year, next year. I think we all know we need to reduce carbon footprint by 50% in the decade, that means 7-8% every year. And that isn't happening. And so I think the critical element for the next 12-24 months when we comes from things like the TCFD, the task force for financial travel to Sharm el Sheikh and to Abu Dhabi for the next two COPs is how do you translate that wonderful narrative and commitment that everybody has given into something where you track week by week, month by month, quarter by quarter, year related disclosures. I think it would just be very, very by year, how are we making progress. And I think that's the biggest collective challenge and individual challenge of every institution. interesting to know how effective kind of disclosure is working at the same time that you've got this kind of level of finance going on in banks that's continuing. There are two interesting questions in there, right? What is what's really happening in finance, and how much money is going into the carbon intensive industry? And then what's the role of disclosure, and they are very, very connected, which I think is very important. If I tackle the first one first, I can give you a very positive and a very negative answer to this. I think the positive answer is that the vast majority of companies in carbon intensive industries have made significant pledges to transition and are investing. So if you look at the big oil and gas majors, if you look at the big automotive companies, they are investing billions into the transition. And so I come back to my earlier point of the different shades of olive. If you just say an oil and gas company is a high carbon business, and therefore money going into that business is negative, then we will never give companies the investment that they need to transition. I think that is really important. We need to be able to give companies that made a pledge in high carbon industries the credit and the time and a little bit the trust that it will actually do it. Linking back to your second question, trust comes with disclosure. Because we know we need to demonstrate that people are actually doing it. But so the slightly more negative answer to your question is, there is so much money in the world, that a lot of money is very, very happy to invest in high carbon assets, because they still deliver a phenomenal cash flow. And so with all of the pressure that we put on large public investors, and I think we do see progress that people are moving more and more away from from high carbon sectors, there's a lot of private money very happily taking on these assets. So unless we're very careful and really look at the entire financial system, we're only pushing them into less transparent areas, which again, links back to the disclosure point. And so disclosure is critical, because disclosure is the only way to build trust. If you think about it, 90% of the global economy is neither green or brown. They're somewhere in between. And so we need to measure, what's the carbon footprint of a company today? What's the target? How's it moving on that? What's the energy mix in an oil and gas company? What's the transportation mode in an automotive company? And are people actually putting the capex into into play that they need to and then delivering the revenue and the output on the other side? And therefore, more voluntary initiatives like TCFD are quite critical. But then the actual mandatory disclosure will be essential. So what the ISP in Frankfort is not doing so the IFRS element, what the SEC is doing, what the Bank of England, FCA, what the listing authorities are doing will be critical to make this happen. We as a company ESG book, we have a number of metrics. One of it is a is a TCFD barometer. So we measure how good is the quality of TCFD reporting of different companies in the world. And the sad news is that only 1.2% of large listed companies currently comply with the four recommendations of TCFD. So of the large list of companies, 1.2% actually delivered TCFD in its original spirit, and that gives you a bit of an indication that a lot of people are experimenting with things but unless it becomes standardised, and mandatory, you will not get the information out there in the world to answer the first question, is it all marketing? Or is it actually happening?

Alasdair: 15:04

Some companies actually don't score very well in your ESG book in terms of their kind of climate trajectory, yet are actually doing fairly well in the TCFD responses. One of the things there is that, you know, is it just the TCFD needs to be perfected? I mean, it seems to be that if, in some situations, if your response is a kind of fulsome one to the TCFD, you're going to score well, rather than actually you as a company performing well in terms of emissions, et cetera. And that seems to be a fairly fundamental falt.

Daniel: 15:37

Yeah. So I would say, in every sustainability topic, or in general any financial industry question, your first topic is, can I measure something? So question number one is you want data to actually create a baseline. On that baseline, you can then derive'are people actually doing well or not? And are they making progress year over year as I hopefully get a time series out of this?' And so I would separate the two discussions. At the moment, we're still struggling to get a good baseline out. In Europe, we probably now have about 80, 90% of companies, at least disclosing carbon emissions, at least scope one and two. In the US they are still quite far behind. And in Asia, if you're lucky one in three companies discloses anything on climate. So the first step is we need to help companies on that journey to actually put the right information to the public domain, because only then, am I able to measure where I stand. And then we come back to the 7-8% reduction every year if you want to deliver your net zero commitments, which will be an entire different discussion because suddenly we need to understand 'over what period is shaping the targets? Is it aligned with different climate scenarios?' The super interesting next discussion will be to what degree are they using offsets, because suddenly everybody thinks that you can buy a lot of offsets and you solve your problem. And a lot of that will be the next discussion and the discussion for the next five years. Right now we need to fix the baseline.

Alasdair: 17:21

Yeah, because the kind of the ESG market is a bit of a wild west as well. Sorry. I mean, we're moving on slightly. But you know, in terms of ESG portfolios, that's kind of what goes in can sometimes be not necessarily so ethical or environmentally friendly.

Daniel: 17:38

Yeah, the way I look at this is, when I say ESG, and you say ESG, we often mean very different things. Some people think about ESG just as a collection of non financial metrics that allow you to either pick the next big winner, companies are just better managed, or as a way to avoid certain risks. You use ESG metrics to identify companies that are more likely to have the next human rights scandal, modern slavery scandal, corruption scandal, and the like. Some other people have a very specific idea on if you're a good ESG company, you must be low carbon, or you must be aligned with one and a half degrees or your certain their company is really good on diversity inclusion or on Black Lives Matter. And then I think there's an entire different cluster of people that think an ESG aligned company is a real high impact company. So these discussions are very different discussions. And I think we're trying at the moment to throw too much into a single score. We think an ESG score can explain the world to you. While we all mean quite different things and for me, the whole greenwashing debate that is now coming up, is in most cases, people using the same words for different meanings. So if the sender of a message or the audience actually have a different understanding of what the term means, you will come into a problem. So if I sell you a fund that is ESG aligned and you think that means there is no mining company in it, we will clash in a year from now. That is the problem at the moment, we use the terms a bit too lightly. There's no real consensus how to label activities. The FCA is now a lot more active in labeling and hopefully we'll see a bit more consistency how different products are described.

Alasdair: 19:36

Would your organisation, your company, ESG book need a very effective global regulator itself to look at what you're doing ideally?

Daniel: 19:44

For me regulation is obviously a huge benefit because regulation makes companies provide more information and I'm in the information business so the more information there is, the more we can help investors make decisions. The more that regulation is aligned, the more likely it is that actually things are comparable, the more likely it is that in a global economy, we talk about the same metrics in different geographies. So the answer is yes, I think the more we manage to get to a common place there, the more likely it is that capital flows in the right direction. That's why one of the most important outcomes of COP is the creation of the ISSB. Where we had SASB and a few other regulatory standards actually being merged into initiative together with the IFRS to hopefully create a semi global and if the US comes along, maybe even global standard on what good sustainability reporting is. Once you have that, you can then go deeper on taxonomy questions, you can go deeper on greenhouse gas protocol questions, but it's the first time that we have a platform that has that capability.

Alasdair: 20:58

There is a current discussion at the moment around demand reduction, and the impacts of growth on climate change, the impacts of kind of producing more and the kind of the world economy as it is, and that many academics now kind of saying that the only really realistic thing to look at long term is around reducing global production and demand. And that that might be in conflict somewhat with what we have as a current kind of financial capitalist model. I mean, I'd just be really interested in know how you view that, in terms of, you know, what you see is the future and and what what you think is a way forward.

Daniel: 21:45

I'm still probably in the slightly naive view that the most effective way to achieve net zero is to give people what they want in a more sustainable way rather than change what people want. And in many, many parts of the economy, we know that it's possible normally, when you go to consumers when you go to a wider population and tell them that, most likely they will be worse off than their parents' generation, you enter into much more fundamental political problems, which I hope we can avoid. But that also means that in the next few years, we need to make a huge amount of progress.

Alasdair: 22:29

Thanks to Daniel Klier for his time. On our podcast blurb you can also find links to some of his suggested reading on green finance. Do also take a look at the ELCI website where there are plenty of new analyses of climate related topics, and thanks for listening!